Rachel Reeves rails against national insurance rise in 2021
Rachel Reeves risks actually reducing wages if she unveils an increase in Employer National Insurance Contributions (NIC) in her Budget on Wednesday, economists have warned.
The Chancellor is widely reported to be considering a 2% hike to Employer NIC, plus reducing the earnings threshold at which businesses begin making National Insurance contributions.
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The Labour Party estimates the combined measures will raise about ￡20 billion and would represent the -biggest tax rise in Labour’s first budget in 15 years.
However, an analysis by the Institute of Economic Affairs suggests such a move could actually penalise the very working people Sir Keir Starmer insists he is committed to helping - with one analyst accusing the Prime Minister of indulging in a “political fantasy”.
The IEA’s research, published today, cites as an example a company that employs 10 people earning ￡30,000, whose National Insurance contributions would increase from ￡28,842 to ￡33,022, if the rate goes up by two points.
READ MORE: Inside Rachel Reeves's 'absolute cock-up' hours before Autumn Budget
Rachel Reeves pictured at the recent UK International Investment Summit (Image: Getty)
If the company were to respond by reducing wages to keep its employment costs fixed, this would result in a ￡361 pay cut, reducing the take-home pay of employees by ￡260, the IEA argues.
A two pence increase would raise ￡9 billion in FY2025 if employers pass on the full burden to employee wages, or ￡18 billion in FY2025 if they passed the burden to consumers or shareholders.
Tom Clougherty, IEA Executive Director and Ralph Harris Fellow, said: "The government's rumoured plan to increase employer National Insurance contributions highlights two important principles of tax policy.
"First, the incidence of a tax doesn't always fall on the person who pays it. When we tax businesses, it is often workers who end up bearing the burden in the form of lower wages.
Labour Prime Minister Sir Keir Starmer (Image: Getty)
"This means the idea of tax hikes that don't hit 'working people' is little more than a political fantasy.
"Second, tax affects behaviour – and the choices people make in response to a tax increase (or a tax cut) can have a significant impact on how much revenue is raised.
"A good tax system would seek to be as transparent as possible about who really foots the bill, while also seeking to minimise its impact on economic decision-making. We are a very long way from that ideal at the moment."
Nikhil Woodruff, Chief Technology Officer at PolicyEngine, which modelled the research, added: "PolicyEngine's analysis reveals that reforms to employer-side National Insurance could generate billions in revenue, but the actual amount depends on how employers pass on the costs - with full pass-through to employees lowering the revenue impacts by up to 50%."
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Pat McFadden, Chancellor of the Duchy of Lancaster (Image: Getty)
A Cabinet minister has said he thinks this week's Budget could be the "most honest" in years as the Prime Minister prepares to say that Wednesday's statement will "embrace the harsh light of fiscal reality".
Chancellor of the Duchy of Lancaster Pat McFadden said on Monday morning that Rachel Reeves' first Budget would "end the fiscal fiction of things being announced which had no money set aside for them".
His comments come ahead of a speech by Sir Keir Starmer later today, in which he is expected to warn of "unprecedented" economic challenges.
Mr McFadden told BBC Radio 4's Today programme on Monday morning: "I think you're going to get the most honest Budget on Wednesday that you've had in many years.
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"We're going to end the fiscal fiction of things being announced which had no money set aside for them."
In a speech, Sir Keir is expected to promise that the Budget will "ignore the populist chorus of easy answers”.
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Referring back to the governments of Tony Blair and David Cameron, the Prime Minister will tell people during his speech that "this is not 1997, when the economy was decent but public services were on their knees.
"And it's not 2010, where public services were strong, but the public finances were weak. These are unprecedented circumstances.
"And that's before we even get to the long-term challenges ignored for 14 years: an economy riddled with weakness on productivity and investment, a state that needs urgent modernisation to face down the challenge of a volatile world."